Tool Manufacturing has an expected EBIT of $83,000 in perpetuity and a tax rate of 25 percent

Finance Nov 25, 2020

Tool Manufacturing has an expected EBIT of $83,000 in perpetuity and a tax rate of 25 percent. The company has $145,000 in outstanding debt at an interest rate of 6.5 percent and its unlevered cost of capital is 14 percent. What is the value of the company according to MM Proposition I with taxes? (Hint: Find the value of the unlevered firm first before finding the levered)

Expert Solution

Computation of Value of the Company according to MM Proposition I with taxes:

Value of the Unlevered firm = EBIT*( 1 - Tax Rate)/ Cost of Equity

= $83,000 * (1 - 0.25)/ 0.14

= $444,642.86

Value of Levered Firm = Value of the Unlevered Firm + Debt Tax Shield

= $444,642.86 + 0.25 * $145,000

= $444,642.86 + $36,250

= $480,892.86

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